The Indian Finance Minister has recently voiced concerns regarding the allocation of new Special Drawing Rights (SDR) by the International Monetary Fund (IMF). This opposition stems from the belief that this method of mitigating financial crises induced by Covid-19 might not provide the desired results. Furthermore, there is apprehension that large-scale liquidity injection may create potentially expensive repercussions if countries utilize funds for irrelevant purposes. In response to this, the IMF plans to offer new SDR allocations to all 189 members, providing them with foreign exchange reserves without imposing any conditions.
Understanding Special Drawing Rights
The SDR, contrary to popular belief, is neither a currency nor an entitlement to the IMF. Instead, it operates as a potential claim on the freely usable currencies of the members of the IMF. These SDRs can be exchanged for these currencies, hence serving as a form of global monetary reserve system.
This system allows the IMF and other global organizations to use SDR as their unit of account. The value of the SDR in terms of currency is calculated by summing up the values in U.S. dollars, gauged through market exchange rates, of a specifically designed SDR basket of currencies.
Components of the SDR Basket of Currencies
The chosen currencies incorporated into the SDR basket include the U.S. dollar, Euro, Japanese Yen, Pound Sterling and the Chinese Renminbi (which was added to the basket in 2016). The monetary value of the SDR is calculated every day, with exceptions made on IMF holidays or any other day when the IMF ceases operations.
To ensure its relevance and effectiveness, the composition of the SDR basket is reviewed and revised every five years. It is designed to reflect the relative importance of currencies in the world’s trading and financial systems.
The Role of Quotas
The quota, which represents the amount a country contributes to the IMF, is expressed in terms of SDRs. This quota system forms the basis of members’ voting power, linking it directly to their financial contributions. Therefore, larger economies with larger quotas have more voting power in the IMF’s governance.
SDR and India’s Foreign Exchange Reserves
It is also noteworthy that India’s foreign exchange reserves incorporate SDRs. This indicates that like many other countries, India also utilizes this international form of monetary reserve as part of its overall strategy to manage its foreign exchange reserves.
The SDR plays a vital role in managing global financial stability, especially in times of crises. However, how effectively it can be used to alleviate the financial strains arising from the Covid-19 pandemic and whether all countries use it responsibly, remains a concern for some nations, including India.
